Barclays Rate Strategist: Fed to Push US Yields Lower

Treasury yields will decline further with the Federal Reserve likely to take steps prior to the end of the year to provide more monetary stimulus to the economy, according to Michael Pond of Barclays Plc.

“The data hasn’t been consistently good and we think there is certainly chance for additional policy stimulus in September and increasingly likelihood by the end of the year,” Pond, co-head of interest-rate strategy in New York at Barclays, said in a radio interview on Bloomberg Surveillance with Tom Keene and Ken Prewitt. The drop this month in Treasuries “where 10-year yields got to 1.86 percent and seemed to be headed toward 2 percent was a little bit overdone. The down-move in yields can continue.”

Treasury yields rose to 1.86 percent on Aug. 21 from a record low 1.379 percent July 25, translating into losses for investors of 1.6 percent, the most over a four-week period since December 2010, Bank of America Merrill Lynch indexes show. The benchmark 10-year Treasury note rose for a second day, with yields falling to 1.63 percent, the lowest since Aug. 13.

While employment and retail sales rose last month, U.S. economic growth the next two years will remain below the 3.2 percent annual average since 1948, according to Bloomberg surveys. Subdued inflation, Europe’s debt turmoil, mandated U.S. spending cuts and tax increases after the presidential election, as well as possible Fed purchases of debt next month are all boosting the allure of bonds.

Fed Minutes

Last week’s slide in yields followed the release of minutes from the July 31-Aug. 1 meeting of the Federal Open Market Committee, which signaled policy makers are ready to add to record stimulus unless they are convinced the recovery is accelerating. That means the Fed may add a third round of bond purchases, or quantitative easing, to the $2.3 trillion it’s bought since 2008.

Fed Chairman Ben S. Bernanke has an opportunity to expand on his views in an Aug. 31 speech at the Kansas City Fed’s annual economic symposium in Jackson Hole, Wyoming.

“The FOMC minutes were very clear that many on the committee judged that accommodation was needed fairly soon unless there was a substantial and sustainable strengthening in the recovery,” said Pond, the top rated Treasury Inflation Protected Securities analyst the past three years in Institutional Investor magazine polls of more than 890 firms that manage about $10.2 trillion in assets. “It’s not clear over the past month that we have gotten that. Bernanke wants to let the markets know he can do more.”

Inflation Expectations

The Fed is in the process of swapping shorter-term Treasuries in its holdings with those due in six to 30 years to put downward pressure on long-term borrowing costs.

The five-year, five-year forward break-even inflation rate, which projects the pace of consumer price increases starting in 2017, was 2.55 percent on Aug. 23. The measure, which the Fed prefers to look at in determining inflation expectations and monetary policy, is down from the year’s high of 2.78 percent on March 19. The rate is determined using yields on nominal as well as Treasury Inflation Protected Securities, or TIPS.

“The market is pricing in modest inflation five years out,” Pond said. “This tells you the Fed is going to” ease policy further “regardless of the inflation outlook or where inflation is as long as they are concerned about growth. If they are worried about growth they think inflation is heading down from their perspective.”